Be selective in midcaps, NBFCs; PSU banks could be in focus post recap: BNP Paribas

BNP Paribas' Raychaudhuri is also upbeat on the latest development surrounding the government’s additional borrowing requirement.

Midcap indices have witnessed a few weak sessions. In fact, they have given up most of the gains from the first week and are down about 2 percent for this calendar year so far.

The movement raised queries on whether this was a bubble which was waiting to burst but BNP Paribas' Manishi Raychaudhuri is not perturbed by these concerns.

“I would not call it a bubble. To look at the index multiples is a misguided signal…overall the valuations could be expensive and there could be a correction but it does not take away the argument that interesting stocks could be there on investors’ radar,” Raychaudhuri, Asian Equity Strategist, Equity Cash Asia Pacific, BNP Paribas told CNBC-TV18 in an interview.

Meanwhile, on a sectoral basis, he remains positive on the banking sector. He likes retail-focused private banks but believes PSU banks will come in focus due to recapitalisation. “One can be selective about it and not broad-based,” he told the channel.

The non-banking financial companies (NBFCs) have valuations concerns and one needs to be selective in this space, he further added.

Raychaudhuri is also upbeat on the latest development surrounding the government’s additional borrowing requirement.

“The move is a big positive surprise. We were mindful of the indirect tax collection falling short of expectations. In that context, this is a big surprise. It also means that a shortfall in indirect taxes is being made up (for). All in all, this is a positive surprise, which is getting reflected in the market,” he said.

Below is the verbatim transcript of the interview.

Anuj: Let us start with banks. Corporate banks have started to see quite a bit of buying off late. Are you buying these stocks?

A: In the banking universe in India, we are actually quite positive on certain classes of banks, which are the private banks particularly those which are retail focused. Having said this, I think off late the traction that the policies of the government and Reserve Bank of India are getting in terms of recognition and resolution of the non-performing loans, that also means that the banks which were hitherto burdened with those NPLs, particularly the public sector banks, would also come into focus at some point of time.

Having said this, we believe in our model portfolio allocation that right now maybe too soon to get too positive on the PSU banks. One could get positive selectively, but not quite on a broad based basis. That time would possibly come later, because over the next two to three quarters we could still see the credit cost of the public sector banks increasing. So we are positive on the Indian banks in a nutshell, we like the private sector banks with a retail focus and that is where our position on the Indian banks in our Asian model portfolio is concentrated.

Sonia: From a market standpoint, the additional borrowing was expected to be a hindrance as far as meeting the fiscal deficit targets were concerned. Now that the borrowing could be brought down, what is your reaction to this?

A: Prima facie this is obviously a big positive surprise because when one assess the risks to the Indian market, the expansion in the fiscal deficit, the inability to stick to the fiscal deficit target was foremost in that list. We were also sort of at the back of our mind thinking that the fiscal deficit target could be overshot by at least about 20-30 basis points of GDP. We were also mindful of the fact that the indirect tax collection, GST in particular, were kind of falling short of expectations.

So, in that context this announcement from the government is a big positive surprise. It takes away part of that concern about expansion of fiscal deficit and it obviously means that the shortfall in the indirect taxes are being made up by something else, so, possibly by better collection of the direct taxes, possibly by an expansion of the tax net towards individuals or organisations who were earlier not within that tax net. So, all in all it is a positive surprise which I think is getting reflected in the market reaction.

Latha: I know you discussed banks already but in the non-bank financials where do you stand the yesterday's leaders?

A: The NBFC space did phenomenally well in 2017. While we think that there is a fundamental case for sticking to NBFCs as an investor because of the very low penetration of these facilities and services in much of India. The valuations are bit of a concern over there. Secondly, one must also point out that in many of the NBFC silos, the players don't exactly stick to what they initially planned out to do. I think housing finance could be an exception to that rule, some of the housing finance companies particularly those which are exposed to semi-urban and rural housing; that could continue to gain. One has to be selective there in this space particularly in the light of expensive valuations.

Anuj: I remember last year I was having this conversation with you and you had gone contra long on IT; that bet is paying off now, but in the largecap IT space, do you see more gains?

A: As you rightly pointed out that IT call is possibly paying out now, even though in between, towards the third or fourth quarter of last year we had reduced our Indian IT exposure slightly. We just have one exposure right now. However, at that point of time there was no reason to move out of the sector, lock, stock, and barrel because the valuations were compelling. Now that valuations have improved, in fact it now seems that the major concerns of 2017 are also partly getting addressed, both on a sectoral bases and on a company specific basis, we would likely continue to stick to Indian IT for a while.

Having said that, I must also point out that if I look at the entire Asian technology space, our positive stance, our bullish stance is actually much more for Chinese IT, for the Taiwanese semi-conductor manufacturers or for the Korean manufacturers of smartphones and DRAM rather than Indian IT. So, in Indian IT we have a much smaller allocation compared to those peers across the region.

Anuj: I wanted your thoughts also on the broader market in India. We have seen a huge midcap rally, last year the midcap index was up 48 percent, are you sensing some kind of froth or bubble in the midcap space?

A: I would not call it a bubble because first of all to look at these index multiples is a bit of a I would say a misguided signal because as we have seen in India, there is a wide divergence in valuations across different sectors, across different stocks, even within stocks in the same sector. So, on an overall basis, if you look at let us say the Nifty midcap index or even MSCI midcap India, these valuations might look, I would not call them egregious, but possibly a little too expensive now maybe between one to two standard deviations above the mean.

Now having said this, we believe that in the midcap space, there are still attractive opportunities, because there are certain trends which are taking shape in India in terms of changing consumption patterns which are obviously being influenced by increasing affluence of the population and these are really long term decadal changes. These are best captured possibly by the midcaps of today which are likely to be the largecaps of tomorrow. So from that perspective, we are still in the mode for searching attractive midcaps.

While the overall market valuation might appear expensive when it comes to midcap and therefore as a consequence of that sharp rally that we saw in midcaps last year, we could see some more correction. However, that does not take away from the basic argument that there are still interesting stocks in that midcap which needs to be on investor’s radar right now.